The ECB’s first meeting of the year could be a sombre affair.
Despite a more promising start for global stock markets in 2019, concerns about economic growth in Europe and beyond are deepening. This raises questions about future policy just a month after the central bank drew a line under the QE era by ending government bond buying. The central bank’s rough deadline for when interest rates may rise from around zero, is ‘through the summer’. But rates futures markets now price a less than 40% chance of a hike in 2019. And, after a spate of surprisingly soft economic readings from the continent’s largest economy, Germany, in recent weeks, the euro has fallen almost 2% since 10th January on expectations the ECB could soon be forced to cut Eurozone growth forecasts. On Wednesday, ahead of the bank’s policy announcements and press conference on Thursday, European government bond yields slumped, a sign that investors expect risks to the region’s economy to remain in the spotlight. Since concrete policy changes are off the cards, market focus, will, as usual, be on the ECB’s policy statement and press conference, particularly a Q&A by the bank’s president, Mario Draghi. There are five key points to watch.
Forecasts on hold
Draghi recently said Europe’s slowdown could last for longer than expected though a recession is unlikely. But the bank slightly reduced 2019 growth and inflation forecasts for the year just in December. It also tweaked its statement to tip the balance of perceived risks slightly to the downside. Changing such assessments again could be misinterpreted by markets. The lack of levers to pull in terms of a policy response in the event of further downgrades also points to the bank keeping forecasts and risk assessment steady. Even a small change in nuance could weigh heavily on the euro at this stage though, with the bank unlikely to avoid addressing new downside risks to growth entirely.
Watch ‘the summer’
The bank’s ‘through the summer’ rates guidance is also in the cross hairs. But dwindling growth and receding expectations about tighter policy at other pivotal central banks, implies the ECB will be wary. The Fed has spent most of the month reminding markets of its new policy ‘flexibility’. The Bank of Japan on Wednesday pushed the horizon for an end to its own stimulus programme further into the distance. In context, if the ECB reiterates its rough timeline for looking again at rates, that will be slightly bullish. If it avoids a mention or uses different language pressure on the rates indications will remain heightened, keeping the euro capped too.
With Eurozone inflation dropping to 1.6% in December, the ECB will also be hard-pressed to telegraph much more than an uptick in the first or second quarter of the year. However, rising wages in the bloc create an interesting conundrum as they can read across to a rise in price pressures. As such, it’s worth keeping an eye on Mario Draghi’s thoughts on Eurozone CPI, as they could be a bright spot for the outlook.
QE might be over for the main part, but sovereign debt markets are awash with suggestions that a form of quantitative easing could continue at the margins for longer. After a mention in minutes of the Bank’s prior policy minutes, investors are eyeing the idea of new long-term ultra-cheap loans to banks to replace a programme of four-year loans that will expire in coming years.
What about Brexit? Bank officials have customarily said preparations for a potential UK exit from the EU with no deal are well in hand, but the chances of that happening are now perceived to be lower. At a minimum, markets have long suspected the ECB would avoid raising rates in such an event. With no deal looking strongly off the cards, Draghi could well be pushed for ramifications to policy from a soft Brexit or even no Brexit. In other words, such questions are another indirect way of gauging rates expectations. Again, any answers from the ECB could help set the euro’s direction.
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